How Blockchain Works and How It Affects You

Although you may have heard of blockchain technology (also sometimes referred to as simply “the blockchain”) somewhere on the news, not a lot of effort goes into explaining exactly what it does and why it is becoming so attractive to several businesses across various industries. For many years this technology has been associated with Bitcoin and other cryptocurrencies, but it is so much more than that. If we understand how it works, only then can we realize what kind of potential it brings with it and how it is already helping many industries operate more efficiently.

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Let’s start with how a database works. This is much easier to understand. You put in some data, it stores the data, you modify it if necessary, and so on and so forth. Usually, one server is managing this database.

A ledger works much like a database with a couple of exceptions. You normally do not remove data from it or modify it. (Oftentimes, that is called “corruption.”)

Ledgers are records, not databases, so they archive events rather than credentials. These events could be transactions, orders, updates to the status of something, or whatever you want them to be.

Databases are better for creating things that you can modify later.

So the only similarity that databases and ledgers have is that they store information. One can be modified, while the latter can only be added to.

Now, how does knowing this help you understand blockchain technology?

It’s because blockchains are ledgers.

But instead of being centered around one particular record, a blockchain is a distributed ledger that runs on hundreds, thousands, or even hundreds of thousands of computer systems around the world, each with its own copy of the ledger.

At the moment this is published, Bitcoin’s network has almost 12,000 nodes in its blockchain. Each of these computers has an archive of every transaction ever made on the network, which amounts to roughly 60 GB of data.

In a blockchain environment, agreement comes from consensus. If more than 50% of nodes in the network agree on something, it becomes part of the blockchain itself, and every node will download that new information.

So, for example, if a new block of transactions is added to the Bitcoin network, it is first verified by every node in the network. Upon consensus, it is then confirmed, along with every transaction inside of that block. That is the moment when you see the amount in your wallet updated with the new sum. If you send 10 Bitcoins to someone, it won’t go through until every node in the network has confirmed the block that your transaction has landed in.

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It’s easy to fathom how blockchains could be used in the financial world. It’s an immutable record of every transaction ever made on a distributed network. What could be better than that for a bank?

Because the blockchain itself is distributed across multiple nodes, it’s easy to recover lost data in the case of a catastrophe. Let’s say that you’re operating a bank in Germany, and your Berlin branch had a technical accident that deleted all of its transaction data. You could just get the data from Frankfurt. It’s all the same! Once you fix the issue, your Berlin branch will download all of the transaction data back from every other branch that’s operational.

If someone wants to do some nasty business and modify a ledger to embezzle funds, that can’t happen either. The modification cannot go through unless someone manages to get half of all the nodes in the network to approve it.

But blockchains are not just financial instruments. The technology is strictly a storage method.

This means that anyone can use it!

Air France-KLM, for example, is experimenting with it to simplify their supply chain management, making it more efficient.

Ukraine has also put its land registry on the blockchain to combat corruption in the cadastral services sector.

Mastercard released a blockchain API that would theoretically make transactions faster across borders.

The fact that everything in the ledger is confirmed by consensus makes it possible to make a network that works independently of institutional procedures. To simplify that, let’s go back to the example of the German bank.

Let’s say you have a customer that wants to send 2000 Euros to someone else in Turkey. Normally, the money would need to hop through multiple collaborating banks and then would be converted by the recipient’s bank into the local currency. This process takes at least one or two business days, if not more.

Through the use of blockchain technology, the transaction can take place once it has received an automatic confirmation from the distributed network of banks using it. In this particular scenario the transaction would likely take place within ten minutes, if not less.

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Although blockchain technology itself has its charm, it also presents a series of obstacles that we might not overcome too soon. All of the hype surrounding it may blind people to the fact that there are some very clear disadvantages to using it that industries will have to mitigate before they implement it on a large scale.

It’s Hungry For Electricity

Since a blockchain has to copy itself to every node that operates it, this also presents an incredible amount of redundancy. Every time a Bitcoin transaction is made, it is confirmed as many times as there are nodes on the network. This, in turn, uses up a ton of electricity. Private industrial blockchains might not suffer very much from this since they could limit their blockchains to a handful of computers. However, this problem might come up in companies like banks, which have to process thousands of transactions per minute on a global scale.

There Can Only Be So Much Storage

Right now, to run a node on the Bitcoin blockchain, you have to download 60 GB of data. What if it were a terabyte? If the Bitcoin market grows significantly, multi-terabyte blockchains could become a reality. After that only server farms and people interested in doing large-scale commerce with the cryptocurrency would run full nodes. This would re-centralize a network that was intended to be a decentralized marvel.

Immutability Has Its Downsides

Say you have a wallet on the network, and you lost the key that you need to authenticate yourself. There’s no “reset password” link. There’s no support number. Your money’s just gone. That’s it. There are no takebacks. You’re broke.

On one hand, if you know how to treat your data responsibly, you won’t encounter this issue. Your money will be yours, and you will have absolute control over it. But with that power comes a responsibility that not a lot of people exercise. It’s why up to a quarter of all Bitcoins are lost forever.

Also, if you put something up on the blockchain, you have to make damn sure that it’s something that you meant to put up there. You cannot reverse transactions, event logs, or anything. It’s there forever. Literally.

Weighing everything in, what applications do you see for blockchain in the future? Tell us what you think in a comment!

One comment

  1. This is very interesting. Has anyone been looking at using this technology for authentication & authorization? Could this be used to say do away with passwords?
    Somehow someway we have to move away from using passwords.
    thanks for the great article!
    Marc

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